What's behind Sirius Minerals plc's recent surge?

Shares in Sirius Minerals(LSE: SXX) have charged higher over the past month and now trade at a level not seen since the company's IPO in 2005. After this rally, shares in the company are up by 200% year-to-date and earlier this week the firm's valuation peaked at the £1bn landmark, although since hitting this level the shares have fallen back.

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So what's behind this rally and is it too late for investors to get in on the action?

Decoding the rally

Over the past few months, the team at Sirius has been busy working on a plan to develop the company's flagship polyhalite mine in North Yorkshire. There's still an enormous amount of work to be done before production can begin at the mine but Sirius is slowly making progress.

On July 20 the company announced that it had received government approval for the harbour facilities element of its development plan. This element was the last major approval milestone for the company and includes the new berth, ship loading facilities and the conveyor linkage to the company's materials handling facility at the Wilton International site.

With the harbour approval, Sirius has all the major approvals needed to begin construction, but the company is still trying to put together the funding necessary to commence construction.

The good news is that management's estimated funding cost of the mine has fallen by nearly a fifth since the first estimate of costings was published. According to figures released at the end of June, Sirius is now estimating that the first stage of the mine's construction will cost $1.1bn, 33% less than the original estimate of $1.6bn. This new estimate has dragged the overall cost of the mine down by 18% to $3.6bn, a figure that includes both the first and second stages of construction.

And a lower initial construction cost means that the project's returns are now expected to be even higher over the long term.

Based on the updated budget forecasts, management estimates the project now has a current net present value of $15.2bn and an internal rate of return of 28% if everything goes to plan. If Sirius hits this target, it will mean that the company owns one of the most lucrative and productive mining assets in the world. Figures show the asset could generate annual earnings before interest, tax, depreciation and amortisation ranging between $1bn and $3bn through various volume and price outcomes.

Nonetheless, there are some issues Sirius needs to overcome before the company gets to the production and profits stage. The most significant hurdle is funding. Although the cost of the first stage of the project has come down, Sirius needs to find more than $1.1bn to finance the first phase of the project and get the mine into production. With only £16.9m of cash on the balance sheet, down from £29.1m at the end of 2015, finding the money for the project is a top priority.

The bottom line

Overall, Sirius is moving ahead with the development of its North Yorkshire asset. Even after the recent rally, the company's shares look cheap relative to the potential value of the asset and earnings that are possible over the long term.

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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.